Introduction to Indirect Exchange

Indirect exchange opens doors to larger interconnected markets.

I turn my attention to the other type of exchange: indirect exchange.

An indirect exchange requires two steps. In the first step, one or both of the parties accepts a good, for which they have no intent to use, in trade for the good they give in trade. In the second step, they exchange the good they accepted for a good or service they actually intend to use. This process differs markedly from the single-step process of the direct exchange discussed in an earlier letter.

First, the good accepted for indirect exchange rates higher on the receiver’s preference scale than it would based on the utility to the receiver.

Second, the quantity of the good received in indirect exchange does not change. Indeed, the receiver does not want the quantity of that good to increase in the market, for it would reduce its value in the minds of the other actors with whom the receiver intends to make a later trade.

The concept of indirect exchange opens new possibilities to provide more goods to a wider array of people as the division of labor increases the quantity of goods on the market. Intermediaries (shopkeepers) will earn their livings providing an range of goods for future exchange. They will develop a sense for the goods that command the highest exchange prices,

Eventually, merchants will begin to use the most marketable goods as a generally accepted media of indirect exchange – or money.

Conclusion

My next letter will deal with the medium of indirect exchange called money.

Understanding the distinctions between direct and indirect exchange will help you achieve a better understanding of the role of money in free markets.